China began developing coal-to-liquid fuel technologies in the 1980s. The coal liquefaction project was given strategic significance in the mid-1990s, after China became a net oil importer in 1993, said Zhang Yuzhuo, deputy general manager of Shenhua Group, China's biggest coal producer.

In 1999, China launched its first coal-to-liquid project in Pingdingshan, Central China's Henan Province. However, the project, with an annual capacity of 500,000 tons, came to an untimely end, because the type of coal proved unfit for liquefaction.

In 2001, a high-tech research project, the 863 Programme, picked up the pace on coal-to-liquid fuel projects.

Shenhua Group took the lead in the process. In August 2004, it embarked on an ambitious direct coal liquefaction project, the first of its kind in the world, in Ordos, northern China's Inner Mongolia Autonomous Region.

The project is designed to have an annual capacity of five million tons. Estimated to cost 24.5 billion yuan (US$3 billion), it will be undertaken in two phases. The first, designed to produce 3.2 million tons of oil products, is scheduled for production by 2007. The second phase is scheduled for production by 2010, with a designed annual production capacity of 2.8 million tons.

Other major coal producers have followed suit. In February 2006, a coal liquefaction project with a designed initial annual capacity of 160,000 tons was launched by Lu'an Group in Tunliu, Shanxi Province.

Two months later, Yankuang Group initiated a huge two-phase coal liquefaction project in Yulin, Northwest China's Shaanxi Province, which will involve a total investment of 100 billion yuan (US$12.5 million). The project is expected to reach an annual output of 10 million tons of oil products by 2020.

However, in addition to the three projects that have won the NDRC's approval, many other provinces and regions have blindly planned and built coal liquefaction projects in recent years. The businesses look forward to significant economic returns counting on the high oil price and the current low cost of coal, despite the impact on local resources and the ecosystem. The result a headlong rush to launch coal-to-oil projects across the country.

It is reported that a total of 30 coal liquefaction projects across the country are either at the stage of detailed planning or feasibility studies. According to conservative estimates, the total capacity would exceed 16 million tons, and the total investment would exceed 120 billion yuan (US$15 billion). Insiders predict that China's annual oil output liquefied from coal will reach 50 million tons by 2020.

In addition to domestic coal giants, foreign businesses with coal-to-oil know-how are also attracted by the promising business opportunities.

On July 11, Shell Gas and Power Developments BV and the Shenhua Ningxia Coal Industry Co (Shenhua-Ningmei) signed an agreement on joint study of coal liquefaction technology in Yinchuan, the capital of Northwest China's Ningxia Hui Autonomous Region.

Under the deal, the Anglo-Dutch company will work with Shenhua-Ningmei on the technological and commercial feasibility of launching an indirect coal liquefaction facility with a daily production capacity of 70,000 barrels of oil products and chemicals at the Ningdong coal mining centre.

"Ningxia is not only rich in coal but in water and power supply, which are all important for the successful development of an indirect coal liquefaction project," said Zhang Wenjiang, chairman of Shenhua-Ningmei.

Apart from Shell, many other foreign businesses have come to China seeking opportunities from coal-to-liquid fuel projects.

In June 2006, South Africa-based Sasol, the world leader in producing fuel from coal, joined forces with Shenhua Group to establish two coal liquefaction plants in Northwest China.

Chinese industry officials have appealed to authorities and business to keep cool about coal liquefaction.

"Although coal liquefaction promises to help ease China's oil shortage, huge potential risks are involved in its mass production," said Professor Lin Boqiang from Xiamen University.

In addition, the unchecked growth of the sector would damage China's already deteriorating environment, analysts said.

Coal liquefaction consumes large amounts of water, and China especially its northern and northwestern regions is short of this resource. Developing coal liquefaction would greatly exacerbate such shortages. Apart from Yunnan and Guizhou provinces in Southwest China, most coal-rich provinces are short of water.

In addition to its need for massive quantities of water, coal liquefaction discharges waste gas, waste water and industrial effluent, creating significant environmental risks.

The profit margins of coal liquefaction projects are closely linked to the fluctuating international price of oil, which changes from year to year. A coal liquefaction project takes three to five years to build and operate.

"Coal-for-oil technology will be economic if the crude oil price is higher than US$25 per barrel. In this sense, it will not face any risk in the near term," said Zhou Fengqi, a researcher with the Energy Institute of the NDRC's Macroeconomic Research Institute.

"But it is hard to tell whether coal liquefaction projects will certainly profit. If the international oil price plummets in the future, the nation will suffer a lot," said Zhou.

Other industry experts worry that China's coal resources are not so rich. Verified exploitable coal reserves were 188.6 billion tons at the end of 2002, but the average resource recovery rate was only 30 per cent. Calculated at an annual coal output of 1.9 billion tons, the reserves would last only 30 years.

"In fact, investment in coal liquefaction incurs a high risk when the industry remains in its infancy. Coal liquefaction should spread only after the success of trial efforts," said Professor Lin Boqiang.

The NDRC concluded that during the period of the 11th Five-Year Plan (2006-10), the coal liquefaction industry should be developed smoothly and steadily.

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